The Millennials' Dilemma: Pay Off Student Loans or Save for Retirement

There's a serious consequence of student loan debt that we don't hear much about: how high debt payments in the early working years could have a devastating impact on the retirement security of today's young people.

05/25/2016 09:38 am ETUpdated
May 26, 2017

It's no secret that our nation is facing a student debt crisis. You don't need me to tell you that more and more people are graduating with burdensome student loan debt levels that force them to rely on credit cards, put off buying a home and perhaps even live at home with mom and dad to save rent money.

But there's a serious consequence of student loan debt that we don't hear much about: how high debt payments in the early working years could have a devastating impact on the retirement security of today's young people.

The problem for recent graduates and those nearing graduation is two-fold. First, student loan debt payments will eat up a disproportionate share of their income. Second, as the United States - particularly in the private sector - has moved away from providing pensions as a vehicle for retirement savings, young people are being left with inadequate and risky 401(k)-style plans as their only shot for retirement.

Let's explore both of these issues further.

Between 2008 and 2014, student loan debt rose a startling 84 percent, according to a study by Experian. Seven out of ten seniors in the class of 2014 graduated with student loan debt, the average borrower owing $28,950--and those numbers include graduates from both public and private colleges. Younger adults are not the only ones grappling with student loan debt: a GAO study estimates that over 700,000 senior citizens carried student loan debt into retirement. For people over 65, student loan balances have grown to $18.2 billion in 2013, up from $2.8 billion in 2005.

Furthermore, a recent poll conducted by the American Institute of CPAs found that 80 percent of Americans have made some kind of financial sacrifice to make student loan payments with 50 percent of Americans saying they have delayed payments into retirement accounts.

If Americans ever do find themselves in the increasingly rare situation of having excess discretionary income, their thoughts wander to questions like do I pay down my student loan debt, look for a better apartment closer to work, or replace that worn out car? Saving for retirement isn't usually at the top of the list. When rent and a crippling sum of debt are looming over you, it's no wonder why many young people choose to put as much as they can toward student debt and other immediate needs.

However, a recent Forbes article argued that saving for retirement would be more beneficial in the long run, especially if your employer offers any matching funds. Morningstar, an investment research and management firm, agrees, noting that for every dollar owed in student loans, retirement savings are reduced by 35 cents.

That solution may work for people lucky enough to be offered a retirement plan through work; 30 million American workers ages 18-64 aren't so lucky. The availability of defined benefit pensions in the private sector has declined rapidly over the past three decades, from 42 percent of full-time workers to just 22 percent today. Even in the public sector - where pensions are more common - there has been an increasing trend to deny the pension to new hires, meaning the retirement security of many young workers is entirely dependent on their ability to invest wisely and luck that the stock market doesn't crash when they're ready to retire.

Long before student debt levels exploded, younger workers were being set up for failure with the rise of 401(k)'s. The 401(k) was created to be a tax-advantaged savings tool for wealthy corporate executives - and that is what it has been most successful at doing. A GAO report from earlier this month found that 81 percent of high-income working households had savings in a defined contribution plan, compared to only 25 percent of low-income working households. These ubiquitous defined-contribution plans are inadequate substitutes for pensions. Unlike defined-benefit pension plans, the income from a defined-contribution plan depends on how much a person saves or whether or not their employers match their contributions.

Millennials know that saving for retirement is important, but few do so because they are faced with impossible choices. And for those who do save, many only have access to 401(k)'s, which pose a number of problems. It's no wonder that only one in five young people feel confident they will have enough money to live comfortably after their retirement. The decrease of retirement security, along with the rising threats of high student debt, will continue to erode the economic certainty of our young people until we prioritize turning things around. The solution will surely be complex, but the first step needs to be the serious reconsideration of whether the move away from defined benefit pensions was a good one for the overall future of the American people.